Korean stocks, currency recover as North agrees to inspections

New levy on foreign-exchange borrowing fails to derail banks

By

V.Phani Kumar

A previous version of this story misidentified Action Economics. The corrected version follows.

HONG KONG (MarketWatch) — South Korean stocks and currency finished way off their steep intraday losses Monday after Pyongyang reportedly agreed to a series of actions, including allowing United Nations’ nuclear inspectors to return to North Korea.

Afghan troops attacked

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Afghan soldiers are the main casualties of attacks in Kabul, and the northern city of Kunduz. Video courtesy of Reuters.

The benchmark Kospi ($SEU) index finished the day 0.3% lower at 2,020.28, after falling as low as 1,996.44 earlier in the day. Also signaling an improvement in risk appetite, the U.S. dollar
USDKRW, +0.00%
which had risen as high as 1,172.05 Korean won earlier, was down at 1,150.25 won, from 1,151.90 won the previous day.

Both stocks and currency pared losses even as South Korea began a contentious artillery drill near its disputed border with the North. They had both tumbled earlier in the day on concern the planned military drill near a disputed border in the Yellow Sea would raise tension.

“Continued tensions could put Korean assets including the [Korean won] under pressure towards year-end when investors are reluctant to take on risk,” said Frances Cheung, senior strategist at Credit Agricole.

David Cohen, director for Asian forecasting at Action Economics, said that while an escalation in tensions on the peninsula would be bad for the markets, investors hoped that they would be contained.

The recovery in Korean stocks and the won came after media reports cited CNN news channel as reporting that Pyongyang has agreed to allow the U.N. inspectors to return to the country, raising hopes that the move would prevent an escalation of the conflict between the neighbors after North Korea shelled a South Korean island on Nov. 23.

Still, both South Korean stocks and currency remained weaker than they were last week.

The Wall Street Journal and other reports said Monday afternoon that South Korea had begun the planned artillery test near a marine outpost on Yeonpyeong Island Monday, defying North Korean warnings against such an action.

North Korea previously warned that it would react with a self-defensive response that would be stronger than its attack on the South Korean island on Nov. 23.

The tests began at 2:30 p.m. local time (00:30 a.m. ET), according to the Journal, which said there was no immediate response by North Korea to the test firing.

Stock markets elsewhere in Asia also remained weak, with China’s Shanghai Composite Index also down 2.1% to 2,832.74, paring losses after it had dropped more than 3% earlier in the day.

Castor Pang, research director at Cinda International, said investors were worried that both North and South Korea seemed like they were “not stable,” and using the geopolitical worries as an excuse to wind down portfolios. He added that the fall may have been exacerbated by very thin trading volumes towards the end of the year.

But some banks outperformed, even after Seoul on Sunday announced a plan to impose a levy on the balance of non-deposit foreign debt. Shares of Shinhan Financial Group
SHG, +0.81%
climbed 2.1%, Woori Finance Holdings Co.
WF, +0.12%
jumped 6.6% and those of KB Financial Group
KB, +0.96%
added 1.5%.

“The bank levy could potentially point to tighter U.S. dollar liquidity in Korea. That said, the idea of a bank levy has been flagged for some time, and it is not going to take effect any time soon. We believe market reaction to be muted near-term,” said Credit Agricole’s Cheung.

Some other analysts said the move could not only have a limited impact on banks, but also boost inflows into equities.

“We expect limited direct impact from the new levy on foreign-currency liability on Korean banks, given that the item accounts for less than 7% of their total interest-earning assets. In addition, local institutions will seek to transfer increasing costs to customers,” CLSA Asia-Pacific analysts Grace Oh and Shaun Chochran wrote in a recent note to clients.

“Meanwhile, strengthened capital controls favor money inflows into equities versus bonds,” they said, noting that inflows into equities constituted a majority of total fund inflows into the country so far in December.

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